S-Corp Reasonable Compensation

[Max W]

This should be of interest to those with S-Corp clients.  I have linked to the page that I think would be the method that most of us would use.

https://rcreports.com/resources/reasonable-compensation-blog/three-methods-of-determining-reasonable-compensation-part-i-the-cost-approach

Although, the pricing is high, $1049 for the Premium package, it looks as if we here at Atx Community might be able to work out some sort of group thing.

[Medlin Software, Dennis]

Must my day of nits... this is one I often get to mention to my customers, owners not paying themselves reasonable compensation at least as often as "any" employee is required to be paid in their state, for all hours worked.  The more owners get educated, the less they have to pay experts to clean up (although clean up is very lucrative, and never short on customers!). 

I am currently dealing with one customer who has (what they tell me, I do not need to verify) a client who is an S Corp, and pays the owner's payroll once a year, including health insurance.  This is a "triple play" as the owner can easily be found to be tax shifting, not meeting their minimum wage and pay frequency regs, and not reporting health insurance when constructively received (even if they really did no services for a pay period, their insurance was valid for every pay period).  Many owners who are also employees forget to treat themselves - the employee - as if they - as the employee - were a perfect stranger.

Tracking what it costs to pay someone else to do what the owner/employee does, at least to me, is good business practice.  (Which can be done by paying the owner/employee what it really costs to replace their services, which is easy to argue is RC.)  Gives the owner a true cost of what it would take to step away, and what the business actually generates for income (as opposed to the owner/employee owning just a job).

[BLACK BART]

Meanwhile, back in the real world (and it won't cost you a thousand dollars or hours of figuring); many, many S-Corp owners pay themselves about $200 to $300 per week (to, of course, avoid SE tax) and I know of one CPA who paid himself exactly nothing.  As he used to say, "I'm putting everything back into the company and the economy."  I think most figure the audit odds are low and a token gesture will provide a fig leaf for IRS if it ever comes up. 

[Roberts]

Honestly I"m not sure how the S-corp tax advantages are still allowed.

[Abby Normal]

33 minutes ago, Roberts said:

Honestly I"m not sure how the S-corp tax advantages are still allowed.

My guess is that the IRS is both more focused on collecting income taxes than Social Security and Medicare taxes, and so short on resources as to not be able to address this issue.

[Lion EA]

I think the Department of Labor, both federal and state, are chasing these monies, doing the leg work for the IRS to then hop on board. CYA. Put your advice to your clients in writing/email/something saveable with them signing/acknowledging they received your advice.

[Medlin Software, Dennis]

2 hours ago, BLACK BART said:

Meanwhile, back in the real world (and it won't cost you a thousand dollars or hours of figuring); many, many S-Corp owners pay themselves about $200 to $300 per week (to, of course, avoid SE tax) and I know of one CPA who paid himself exactly nothing.  As he used to say, "I'm putting everything back into the company and the economy."  I think most figure the audit odds are low and a token gesture will provide a fig leaf for IRS if it ever comes up. 

Just like in the real world, many fail to follow leach laws because their four legged friend is "friendly", "always minds", "is not a danger", "is tiny", or whatever.  Does not help those folks when they get ticketed, or at least twice a year, I am forced to pepper spray their four legged friend because of the human's stupidity.

To me, "laws don't apply to me attitude" needs to be corrected (and we can all try to change laws we do not like), especially when one is presenting themselves in a manner to represent others, such as the CPA in this example.

[Roberts]

23 hours ago, Abby Normal said:

My guess is that the IRS is both more focused on collecting income taxes than Social Security and Medicare taxes, and so short on resources as to not be able to address this issue.

The S-corp rules are up to Congress to change. I don't have a bunch of S-corp clients but when they come through via other firms it's always amazing to see the "paycheck" the owners receive. Had a guy who's company was 3 people. The owner, another salesman and a secretary. The owner worked 40+ hours per week and claimed a paycheck of $30k per year. The company had a profit of $400k per year. Nobody saw that as a problem.

 

I have a friend who started a company 2 years ago and while I don't do his taxes, I'm sure he's doing this stuff. He has a profit of over $10k per week he's told me before his most recent expansion.

[BLACK BART]

23 hours ago, Medlin Software said:

...To me, "laws don't apply to me attitude" needs to be corrected...

Yes, and I "hope there will be peace in the world" but I'm not holding my breath (and Johnny Cash was till wearing black {until all wrongs in the world were "righted"} when he died).  I'm not saying your outlook is wrong; but rather that I believe S-Corp owners' salary underpayment is much more widespread than commonly assumed.  And I don't think Roberts' $30K example is rare, nor do I think it's justified - it's my thinking that an affected party/parties have a very strong lobby in Congress.

One school of thought:

https://www.accupay.com/_paydays/2012/May/S%20Corp%20Pays%20Zero%20Salary%20to%20Owner_050312.pdf

One other item of interest: For years I've been reading/hearing that IRS "aggressively" audits S-Corps for these underpayments, but I've rarely seen it actually happen.  Others?

 

[Medlin Software, Dennis]

I am reasonable, and know not all are perfect, not even me.  Maybe I should say I would like the norm to be following rules, self responsibility, and a return of what used to be common sense.  If no one speaks up, the (what I consider) downward trend continues.

We do need to be clear, the RC requirement only applies to the S owner/employees.  S owners can properly not be employees, provided they meet those specific requirements.  For owner/employees, it could even be easier than some sort of RC calculation - meaning does the owner/employee's household have enough regular reported income to meet their expenses, with no "withdrawals" during the year?  Not something likely called on other than maybe in court, but it could be something the owner/employee receives as advice?  Or maybe asking if the owner/employee is or is not the highest paid employee (by hour)?  Not saying to turn away work...

This sort of thing is a daily issue for me.  I do not offer tax advice to my customers, but when they are doing something incorrect, I give my personal experience/knowledge, and suggest thet consult with their local tax expert.  Most welcome the information, as many do not have much experience, or go on what that "friend" has told them.  A few, and they are ones I never mind losing as a customer - or at least to identify - get snippy.

[Max W]

On 1/3/2020 at 8:17 AM, BLACK BART said:

One other item of interest: For years I've been reading/hearing that IRS "aggressively" audits S-Corps for these underpayments, but I've rarely seen it actually happen.  Others?

 

The IRS repeatedly says they are going after S-corps, yet few of us ever have had an S-corp client audited.  I don't doubt that thousands of S-corps are being audited, but they are at a much higher level than we are ever likely to see.  They are certainly not going after the little guys.   Lack of funding and lack of personel are contributing to cutbacks in audits.   In Sep. 2018, the IRS suspended the ASFR (substitute for return) program and there is no indication as to when it will resume.

[Terry D EA]

I have two S-Corp clients that are definitely paying themselves appropriately. Maybe this is out of the norm. I have had some in the past that wanted to argue and gripe about being on the payroll and wanted to undercut the requirement. My business is small and I don't need clients who do not want to follow the regs. I never mind getting rid of a client who is not trust worthy.

For everyone I set free it always works that two or three more new clients will take their place. I've never understood that but that is exactly how it works. I caught one guy hiding his wife for ten years and when I did, it was see you later. Yes, I did my due diligence and had all documentation. But...once you have knowledge what can I say. I did advise this guy to correct all returns and pay back the money who wrongly had taken. You can guess where that went.

People don't want to hear the proper stuff some times. Showed a new client last year where the previous preparer failed to include interest income from an installment plan. I told them I had to tell them there are responsible to file an accurate return and it would cost them some money. Never heard back so I'm assuming they are riding it out. However, I filed an accurate return for 2018 with no objections from the client so I will take them back again this year.

[Medlin Software, Dennis]

I am aware of an S Corp which is also compliant, the shareholders make no decisions as to how the corp is run.  This allows them to properly be non-employees...